Liontrust’s top 10 ethical stocks

Ethical investing has come a long way in a short time, and you no longer have to sacrifice performance to invest based on your own principles. Peter Michaelis, who runs the Liontrust UK Ethical Fund, explains to interactive investor’s head of equity strategy Lee Wild how to do it. 

Filmed 28 May 2020

Lee Wild, head of equity strategy, interactive investor:  Ethical investing, it’s come a long way in the past few years and is more popular than ever, but why do you think that is? 

Peter Michaelis, manager of the Liontrust UK Ethical Fund:  Well, I think finally people are making the link that the way they invest matters and it affects the world. So just as people bring their principles into how they shop and the type of food they buy and where they decide to buy their clothes, so people are bringing that into the investment world as well where they have an equally important role to play. 

Lee Wild:  OK. And do you still hear the argument that investors have to sacrifice returns to invest ethically? That was always the argument against ethical investing. Or has this idea do you think finally been dismissed completely? 

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Peter Michaelis:  Well I don’t think it’s been dismissed completely. I think there are still a lot of people out there who think, okay, if you’re bringing your principles into investment, you necessarily will reduce your available universe and so you will end up somehow constraining your performance. 

The evidence is totally to the contrary and,  when I look at our funds and if you look over the last ten years, all our funds are in the top quartile. When I look at who our competitors are in the top ten performers, and this is versus mainstream benchmarks, when I look at who our competitors are, there’s a high prevalence of sustainable strategies as well. 

And the reason for that is that sustainable strategies are investing in those companies which are benefitting from the changes that we’re going to see in the world, so in helping to make our businesses which are helping to make our world cleaner, healthier, safer. Those are the businesses which are the sort of focus of sustainable strategies and those are the businesses which grow faster. 

And we believe certainly that the market tends to underestimate that. So we’ve been running these funds for nearly 20 years now and we have demonstrated that we can outperform mainstream strategies and mainstream benchmarks consistently based on this investment approach. 

So no, there’s a huge number of people out there who are very, continue to be very sceptical about it, but we are very happy that our clients are enjoying strong returns by investing in line with their principles. And to me, it’s a commonsense way of investing, you invest in the way the world is going to be, not the way the world has been in the past. 

Lee Wild:  Definition, you’ve touched on this already, but definitions of exactly what ethical means have become clearer in recent times. I think some investors are still sort of confused about exactly what ethical investing, or ESG (environmental, social and governance) investing really is. How does your fund define ethical? 

Peter Michaelis: Yes, our fund invests positively in companies which are aligned with those strong, structural trends of our world to become cleaner, healthier and safer. So our clients understand that the performance that we generate comes from those businesses being successful, so helping to, you know, provide pollution control equipment to clean our air, to provide vaccines to help us fight diseases. Or to provide cyber security to keep our lives online safe. 

So we can show our clients where their returns are coming from and they are comfortable that it’s coming from companies who are helping to make the world a better place. That said, we do also, because of our focus on the positive, we avoid companies with high negative costs on society and the environment. And that includes companies in tobacco, in arms manufacturing, in fossil fuel, so all coal, oil or gas or gambling. 

And these companies tend to have, you know, high external costs on society and we believe that they have a more challenged future in terms of the growth of their industry. 

So our funds are a combination of that then, a positive focus, but also avoiding sectors which we think are not great investment areas but also which our clients do not want to be invested in. 

Lee Wild:  And looking at the fund’s top ten holdings, some investors might not immediately understand how some of them make the portfolio, so your very traditional companies. Perhaps you could explain what makes some of them an ethical investment? 

Peter Michaelis:  Some are pretty obvious and stand out, so a company like Kingspan (LSE:KGP) is one of our largest holdings. Kingspan make thermal insulation for buildings which improves energy efficiency and has led to that company being incredibly successful. It’s grown, over the last 25 years, it’s grown its sales more than 15% per annum on average. 

So predominately successful, very obviously a sustainable company. It saves the equivalent energy to what London uses, four times what London uses every year through the use of its products. So that, as you say, is very straightforward. 

Others which are maybe, less obviously sustainable will include Prudential. Prudential is a large insurance company, it actually now operates in the US where it does annuities. But the most exciting bit, the bit that we really like, is their operations in South East Asia. 

Now to a lot of people they sort of think “Oh insurance, that’s just a chore, it’s not anything particularly sustainable”. But consider living in a world without insurance, you know, if you don’t have cover in the event of your death or injury or you don’t have health cover, you’re in an incredibly precarious position. 

So in South East Asia you have a very under penetrated insurance market and this means that, you know, when healthcare spend in South East Asia, more than 40% is done out of pocket, so you pay for it yourself. And compare that with the UK where it’s about 9%, it’s under 9%. Obviously we have the NHS but we also have great health insurance. 

And so by putting, by increasing the penetration of insurance within those societies, people can plan for the future, they can mitigate risk. So, insurance basically is a great way of sharing risk through society. So we see their growth in Asia of insurance products, and principally life insurance and health, being something which is amazingly positive from a societal point of view. So, far from being boring, it’s something which we think is incredibly important and a very positive long term trend. 

And just finally on Prudential (LSE:PRU) before I move onto one more. I think if we look at a world post the Corona and Covid 19 pandemic, people are going to be a lot more focused on, thinking about their future and thinking about how they can mitigate risks for themselves, obviously directly, but also for their families and I think insurance will play well into that. 

One other one, if I may, is one of our larger holdings, is a company called Smurfit Kappa (LSE:SKG). And Smurfit Kappa is not a brand name but they make the packaging for a lot of the brand names that we buy. 

And what’s important about them is that they make cardboard packaging and cardboard, card is an amazingly sort of versatile material. But what we really like about it is the circularity of that material and more than 90% of card is recycled in Europe. Smurfit Kappa’s products, when they package goods to sit on the supermarket shelf, they have more than three-quarters, more than 75% comes from recycled fibre. 

And the really great bit about it is that in contrast to plastic, that cardboard which leaks out of the system, you know that 8% that isn’t recovered, biodegrades very quickly, it’s a natural product. So we think that as we learn more about the harm that single use plastic does and the very, very low rates of plastic recovery and it’s around about 40% in Europe at the moment. So consumers say “Actually, I prefer to see my product packaged in cardboard, you know, where possible”, and so that will lead to further growth and demand for Smurfit Kappa’s products. 

So those are a few examples of companies within the portfolio that we feel are very sustainable and will benefit from those trends towards this cleaner, healthier, safer world.